As readers of this blog know, I have consistently argued that there is no such thing as public opinion.  But other bloggers keep citing public opinion, as if it actually exists.  (Is it animal, vegetable or mineral?  They never say.)

Let’s put aside the non-existence of public opinion.  Suppose it did exist, and suppose the polls could measure it.  What do the polls show?

1.  The public consistently favors lower tax rates for the rich.  They favor a top rate in the 30% area, well below Obama’s 43.4% proposal.

2.  The public consistently favors higher taxes on the rich.

I’m not sure what this means, maybe they think we should raise revenue from the rich by closing loopholes, as Boehner hinted the other day.

Of course that’s also my own view.  How convenient when this non-existent public opinion just happens to favor what I favor!  I guess there is such a thing as public opinion.

Here are a few items that I found interesting.

1.  Are you thinking what I’m thinking?

Here’s one from the odd-but-true department: we are more likely to spend old, soiled money faster than crisp, new notes. You might object that this makes no sense at all – twenty dollars is twenty dollars, right? If fact, new research from Canadian scientists show that we are more likely to spend or gamble with currency that is old and worn.

Currency Isn’t Interchangeable
We think of money as being infinitely interchangeable. Any $5 bill is equivalent to any other. Five $20 bills are the same as one $100 bill. Unfortunately, it’s not true, at least from the standpoint of human behavior. We tend to spend small bills faster than large bills. So, if your wallet is full of $5 bills you’ll likely buy more stuff than if you have the same amount of money in larger bills.

The magnitude of the difference in spending rates is startling. The Canadian reseachers found that subjects spent an average of $3.68 when given a crisp, new $20 bill, but more than double that – $8.35 – when given an old bill.

2.  Excellent interview with Coase and Wang on China, and also the problem with modern economics:

Adam Smith, the founding father of modern economics, took economics as a study of “the nature and causes of the wealth of nations.” As late as 1920, Alfred Marshall in the eighth edition of Principles of Economics kept economics as “both a study of wealth and a branch of the study of man.” Barely a dozen years later, Lionel Robbins in his Essay on the Nature and Significance of Economic Science (1932) reoriented economics as “the science which studies human behavior as a relationship between ends and scarce means which have alternative uses.” Unfortunately, the viewpoint of Robbins has won the day.

The fundamental shift from Smith and Marshall to Robbins is to rid economics of its substance “” the working of the social institutions that bind together the economic system. Afterward, economics has turned into a discipline without a subject matter, advocating itself as a study of human choices. This shift has been assisted by what Hayek (1952) criticized as the growing trend of scientism in the study of society, which took mathematical formalism as the only secure route to truth in the pursuit of knowledge. As economists become more and more interested in formalism and related technical sophistication, it becomes secondary whether the substantive questions that they choose to perfect their methods or to illustrate their theoretical models bear any resemblance to the real world economy. By and large, most of our colleagues are not bothered by the fact that what they profess is mainly “blackboard economics.”

We are now working with the University of Chicago Press to launch a new journal, Man and the Economy. We chose our title carefully to signal the mission of the new journal, which is to restore economics to a study of man as he is and of the economy as it actually exists. We hope this new journal will provide a platform to encourage scholars all over the world to study how the economy works in their countries. We believe this is the only way to make progress in economics.

We are very much aware that many of our colleagues whose work we admire do not share our criticism of modern economics. But our goal is not to replace one view of economics that we don’t like with another one of our choice, but to bring diversity and competition to the marketplace for economics ideas, which we hope most, if not all, economists will endorse.

3.  Epistemic closure.  Back in 2009 I was surprised to see conservatives warning that the Fed’s “easy money” policies would lead to high inflation.  I would have expected conservatives to focus on market forecasts, which showed that inflation would remain low.  Don’t conservative believe in market efficiency?  Why were they making predictions that would lead to their views becoming widely discredited?  I still don’t have an answer.  But John Dickerson shows that conservatives in the Romney camp (and outside as well) did exactly the same thing during the recent campaign.  It seems they genuinely believed Romney was winning, despite all the market forecasts showing he was losing.  Originally I thought people like Karl Rove and Dick Morris understood reality, but were just playing to their audience.  Now I think they were actually delusional.

4.  A popular theme at the Fed challenge contest.  One of my students at the recent Fed challenge in Boston told me that many of the teams mentioned nominal GDP targeting as a policy option.  That’s good to hear.  Apparently one team (Dartmouth?) cited Michael Woodford and me in support of NGDP targeting.

5.  The Fed keeps evolving.  Matt Yglesias points out that Janet Yellen is now supporting Charles Evans’ call for a more aggressive monetary stimulus.  I just wish it was NGDP level targeting, not inflation and unemployment.  In January Evans and Rosengren will join the FOMC.  Recent statements by Dudley sound very promising.  And the Board itself has 6 Obama appointees.  I can’t imagine the Fed not offering more stimulus—we’ll need more stimulus even if we avoid the fiscal cliff.  If we don’t avoid it, we’ll need much more monetary stimulus.

6.  Take with a grain of salt.  David Beckworth sent me the following:

University of Chicago undergrad Basil Halperin ran into Robert Lucas in the hall and asked him about NGDP targeting.  This is what he said per Basil’s tweet:

Lucas has a mischievous sense of humor, so take that any way you wish.

7.  Basil strikes again.  And speaking of Basil Halperin, he was the student that recently asked John Taylor about NGDP targeting.  David Beckworth reports that Taylor seemed somewhat receptive to the idea.  David also has a good post on the bond vigilantes.  He focuses on a rise in rates due to inflation and/or growth, whereas I focused on a higher risk premium.

First ask why the risk premium rose.

A number of bloggers including Paul Krugman, Tyler Cowen and Nick Rowe have recently weighed in on the question of whether a higher risk premium would be expansionary.  Before criticizing this analysis, let me emphasize that I do understand the concept of ceteris paribus.  However I think it’s very dangerous to engage in this sort of speculation, because higher risk premia almost never happen, ceteris paribus.  They happen for a reason, or multiple reasons.  And any conclusions drawn from the certeris paribus case are often (mistakenly) applied to a real world increase in the risk premium, which is triggered by some sort of actual shock.

Let’s start by trying to understand why so many commenters found Krugman’s argument (that a higher risk premium on government debt can be expansionary) to be a bit too clever, a bit too counterintuitive.  My hunch is that it was because their instincts tell them this is unlikely to happen, mostly because they don’t ever recall seeing anything like an expansionary rise in a risk premium, whereas they have often seen something closer to the opposite.  (Closer, but not exactly the opposite, as rising risk premia are often associated with countries without their own currency, or with debts in foreign currency.)

And in fact we should not be surprised that we don’t see expansionary increases in the risk premium.  The growth rate of NGDP is far and away the biggest determinant of the budget deficit.  A major expansion in NGDP would sharply reduce the budget deficit, and also reduce the ratio of debt to GDP.  So it’s almost impossible to imagine a rational expectations solution where you get an expansionary rise in the risk premium.  Not because there is anything wrong with Krugman’s ceteris paribus reasoning, but rather because it’s almost impossible to imagine a shock that would be expected to promote both a higher risk premium and a faster recovery.

Another way of putting this point is that any assumed shock that boosts both the risk premium and the recovery, is unlikely to do so in a world of rational expectations.  Now of course one could argue that the ratex assumption is wrong, but once we do so we are out of the world of science and into the world of pure conjecture.  In that case proponents of the expansionary risk premium increase can no longer refer to scientific models in support of their assertions.  Without ratex EVERYTHING changes, and virtually anything is possible.  I could argue that the bond vigilante news frightens consumers, and the MPC falls sharply.  Literally ANYTHING is possible, once you dump the ratex solution.  As the old mapmakers used to indicate; “Here be monsters.”

What sort of actual shock would be most likely to cause a rise in the risk premium on US government debt?  I have trouble visualizing any plausible scenario that would do this (in that sense I agree with Krugman, who is also skeptical.)  But I’ll do my best.  Here’s the sort of triple whammy that might do the trick:

1.  Congress engages in a massive fiscal stimulus project, with no credible plan for the long run deficit problem.

2.  The Fed views the plan as highly irresponsible, and sharply tightens policy—driving NGDP lower.

3.  The Fed warns Congress that they will not bail out a failed fiscal policy with inflation, and that Congress will have to clean up its own mess.

That sort of shock might create a higher risk premium on Treasury debt.  And that sort of shock would not be expansionary, just the opposite.  But of course those arguing that a higher risk premium is expansionary are going to object that my conjecture violates ceteris paribus.  True, but nothing ever happens to prices or risk premia, ceteris paribus.  So the ceteris paribus case is not very interesting.

HT:  Saturos, Mike Moffatt

I’d say the answers are no and no.  Here’s Tyler Cowen:

When it comes to Japan and the Japanese lower bound, the empirical evidence seems to show that “standard theory” predicts quite well and the stranger zero bound theories do not predict well. Here is Braun and Korber:

“We show that a prototypical New Keynesian model fit to Japanese data exhibits orthodox dynamics during Japan’s episode with zero interest rates. We then demonstrate that this specification is more consistent with outcomes in Japan than alternative specifications that have unorthodox properties….”

Those same zero bound Keynesian models predict that economies should have quite volatile responses to real shocks, yet they do not:

“We also considered specifications of the model that have larger government purchase multipliers and some which also exhibit unorthodox predictions for the response of output to labor tax and technology shocks. We found that these specifications are difficult to square with the fact that the period of zero interest rates in Japan between 1999 and 2006 was a period of low economic volatility.”

That made me think of 2011, when Japan experienced the largest natural disaster to hit a developed country in my lifetime.  A disaster that shut down the entire nuclear power industry for years (an industry that had supplied one fourth of Japan’s electrical power.)  A disaster that killed 20,000 people.  A disaster that occurred when interest rates were stuck at the zero bound.  This graph shows the impact of the March 2011 tsunami on Japanese unemployment:

See the effect?  Neither do I.  The basic problem is that the zero rate models assume that Japanese monetary policy is passive.  But it’s not, indeed the Bank of Japan has stabilized the Japanese price level more effectively that any other country in human history.  And yes all you Austrian readers, I’m including the gold standard era.  Japan’s price level was 100.0 in March 1993, and it’s 99.0 right now, almost 20 years later.  The only changes during that period was a jump of a couple percent in the late 1990s when the national sales tax was added, and a tiny rise and fall in 2008 when world oil prices spiked.  That’s it.

Because the BOJ is successfully targeting the price level at 100, by raising rates and reducing the monetary base when inflation threatens, and cutting rates back to zero and doing QE when deflation threatens, the NK zero bound models have no applicability to Japan.  That’s why real shocks don’t push Japan into a deep recession.

So how about Britain?  I’m afraid they don’t work there either.  Unlike Japan, The BOE has not been able to hit Britain’s 2% inflation target.  Indeed inflation has been accelerating in recent years:

This is why the BOE refrained from taking any steps (such as QE) to stimulate the economy during their last meeting.  Does a central bank that refuses to ease because inflation has averaged 3.3% over 5 years face a “liquidity trap?”  Keynes would roll on the floor laughing if he were alive today and heard some of the NK explanations for Britain’s current predicament.

BTW, I believe the BOE should be told to ignore inflation and target NGDP, which is why I favor additional monetary stimulus in Britain (and Japan.)  But why should anyone expect them to do this when the British government has given them a target that calls for tightening?

If the Cameron government wants more demand, all they have to do is ask for it.

PS. I don’t recall any NK bloggers mocking Merkel’s call for (fiscal) demand stimulus in Germany a few weeks back, but perhaps I missed something that people can point me to.  Recall that Germany has been opposed to monetary stimulus from the ECB.

PPS.  Sweden is pursuing exactly the same tight money policies as Britain, indeed even tighter.  And yet unlike Britain they are not at the zero bound.  New Keynesians need to open their eyes and recognize that the zero bound isn’t the fundamental problem; ultra-conservative central banks are the problem.

From the WSJ:

Mr. Bullard noted that in 2009 the Fed may have kept monetary policy too tight, but that was before the Fed embraced bond buying as a tool of policy stimulus.

Pay no attention to the “may.”  Officials don’t acknowledge that the institution they are responsible for may have screwed up, unless they actually think it screwed up.

HT:  Steve

Off topic.  A commenter named “Cornflour” produced what I thought was the most persuasive explanation of the “Driftless Area Mystery.”

I don’t have the numbers at hand, but I’m an ex-geologist who grew up in Iowa, so I have some observations that aren’t entirely imaginary.

It’s already been noted that Rochester and the Quad Cities are on the edges of the driftless area, and have their own stories. For the rural part, this is a gentrification story.

The driftless area is very pretty country, and by Midwestern standards, the climate isn’t too bad. It was always poor land for farming, and earlier generations ran small hog and dairy farms. These were never very competitive, and don’t survive in large numbers. Starting in the 1960″²s, back-to-the-land people started buying land and lived (some still living) a vaguely hippie lifestyle. Later migrants were more middle class, or even wealthy. They started B&B’s, organic dairy farms, organic apple orchards, goat farms, restaurants, etc. A few are artists and craftsmen. There are quite a few hobby farms. Most of these people have come from the Chicago area and are very liberal. A very small number of them are conservatives of the “crunchy con” sort.

Not all of the local people have left, but they are now called “the locals.” It’s the newcomers who swing votes to Democrats like Obama, but not necessarily to more old-fashioned local Democrats. For those with Midwestern myopia, think of New York and Vermont a generation earlier.

So it’s sort of the upper New England of the Midwest.  I guess one can live in a state without really understanding it.  BTW, do you recall the famous Maine catalog company “L.L. Bean.”  Guess where “Land’s End” is located.  That’s right, the Driftless Area–Dodgeville, Wisconsin.

I have to disagree with him on one point, however.  There is no such thing as a Midwestern climate that “isn’t too bad.”

PS.  I mentioned the 1966 film “Blow Up” in the Driftless Area post.  I just saw the film last night at Harvard (a perfect print, BTW) for the first time in 40 years.  Blow-Up obviously influenced the directors of The Conversation, Blow Out, A Clockwork Orange, and many of the films made in Asia over the past 25 years.  After the film I thought about all of the great films made between 1958-75; Blow-Up, The Passenger, Vertigo, Psycho, The Godfather I and II, Laurence of Arabia, Dr. Strangelove, 2001, Touch of Evil, Chinatown, etc.  And that’s just a partial list of the classic English language films.  We haven’t even gotten into all the Italian/French/Japanese classics.  Or the films of Tarkovsky, Bergman, Ray, etc.  And yet today far more aspiring directors have access to “film schools,” or to cheap digital cameras where they can show their chops.

Why don’t they make “great” films like “Blow-up” anymore?  Is it because they’ve already been made? Or because we can’t recognize them? Because we just aren’t seeing what future generations will see. Or to put it another way, does this comment by Susan Sontag also apply to film?

IS LITERARY GREATNESS still possible? Given the implacable devolution of literary ambition, and the concurrent ascendancy of the tepid, the glib, and the senselessly cruel as normative fictional subjects, what would a noble literary enterprise look like now?

Answers can be provided in the comment section.